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Creating an Institutional-Grade Investment Operation: Which Roles to Outsource and to keep In-House

Launching a hedge fund has never been more challenging. It takes careful consideration and planning to ensure that the right people, systems and partners are in place to meet the firm and investor needs on day one and to position it for future growth.

As the complexity of running a successful hedge fund continues to increase at an accelerated pace, emerging fund managers are evaluating even more closely which functions to outsource and which to keep in-house. When creating the business plan, it is essential for fund managers to consider the specific needs and goals of the firm and evaluate each team member’s core competencies. For example, a hedge fund manager may choose to hire a research analyst and outsource the fund accounting. What is important is being able to strike a balance between outsourcing non-core functions so that the fund manager can focus on the core competencies of the investment firm while also maintaining enough in-house expertise.

As the expertise of best-in-class service providers continues to get better and better and investors see outsourcing as a positive development, the industry will continue viewing outsourcing as a positive advantage. The question that remains today is not whether emerging hedge fund managers should outsource but which functions they should outsource.

Keep it close to home

There are certain competencies that hedge fund managers and even investors prefer to keep in-house. These functions are closely linked to the investment strategy, research and risk management of the firm. In other words, the work associated with a hedge fund's proprietary technology, investment strategy, or process. Typically, they include:

  • Investment management and strategy: The research and analysis required to make investment decisions as well as the development and implementation of the fund’s overall investment strategy.

  • Risk management: The monitoring and management of the fund’s overall risk profile and the development and implementation of risk management policies and procedures.

  • Portfolio management: The day-to-day management of the fund’s portfolio, including buying and selling securities.

  • Trader: Some hedge funds keep traders in-house to execute trades and manage the fund’s liquidity.

Keep in mind that this list is not exhaustive. Investment firms could have different priorities and might keep additional in-house functions, such as legal and compliance, depending on their specific strategies or needs.

Engage best-in-class providers

Hedge fund middle and back office service providers have become more specialized in the past couple of decades. Like hedge fund managers, third-party experts have had to keep up and even stay ahead of regulatory, operational, and best practice changes to continue providing excellent services.

Often when evaluating which areas of the business to outsource, hedge fund managers take a critical look at skill gaps and the areas that would reduce the wear and tear on their team. The functions that are typically outsourced include:

  • Fund administration: Functions including accounting and reporting, record-keeping, investor account management, and other operational tasks.

  • Compliance: Monitoring and ensuring compliance with all relevant laws, regulations, and ethical standards.

  • Legal: Managing legal and regulatory issues related to the fund, such as fund formation and ongoing compliance

  • Audit and tax services: The independent auditing of the investment fund’s financial statements and preparing the required tax filings and K-1s.

  • Technology: Back-office functions, such as trade settlement and reconciliation, as well as IT support services.

  • Prime brokerage: Certain services such as execution, clearing, financing and margin services to hedge funds.

  • Custodian services: The safekeeping and safeguarding of the hedge fund assets.

  • Regulatory reporting: Preparing and filing reports with regulatory authorities.

Outsource to grow

Outsourcing is not an "all or nothing" relationship. However, launching a hedge fund without outsourcing some parts of the operations is becoming more challenging. When choosing which functions to outsource and who to outsource them to, hedge fund managers should keep in mind a few things:

  • Identifying their weak areas so they can fill critical skill gaps with experienced partners

  • Analyzing which functions are not critical to running the investment strategy and outsourcing them to gain operational efficiency

  • Reaching new geographies or expanding into new asset classes or markets without hiring directly

  • Scaling the operations for growth and becoming nimbler to adapt to market and regulatory changes

  • Freeing up time so senior members of the team can keep an open line of communication with investors

Final thoughts

Outsourcing has come a long way over the past twenty years. The list of services that can be outsourced continues to grow at the same rate that the cost and complexity of launching a hedge fund increase and as the expertise of third-party providers become stronger. Outsourcing has become generally accepted by investors and the investment management community who want to see their investment teams focusing on alpha-generating tasks. Emerging hedge fund managers today have an advantage as the depth of experience and the breadth of functions that can be outsourced to experts has grown immensely.

How Swiss Financial Services Can Help

At Swiss Financial Services, we understand there isn't a one-size-fits-all approach to running an investment firm. Therefore, our services and approach are tailored to each fund manager’s specific administration, accounting and reporting needs.


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